A field day for active management critics?

05 Oct 2015

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A field day for active management critics?

J.P. Morgan reported to clients last week that it examined the performance of 2,400 active fund managers in the third quarter and found that 67% underperformed their benchmark by 100 basis points or more; a whopping 34% underperformed by at least 250 basis points.

Large-cap growth stocks had the worst time of it in the third quarter with 90% missing their benchmark. When you consider that many advisors who use active management prefer large caps to mid- and small-cap stocks, it is a huge blow to their clients.

“Investing is always a zero sum game. Whenever someone is selling a stock the amount you gain is the amount the other person loses. You can’t both make money on a trade,” said Burgeonvest Bick Securities Ltd. portfolio manager John De Goey. “One is long the position and one is now short the position and it either it goes up or down and now we’re rearranging the deck chairs. There’s nothing that’s being done that’s accretive.”

JP Morgan’s research suggests passive investments aren’t dead yet.

Active managers were supposed to have been in a good position given that the low hanging fruit of the seven-year bull-run were already in the books. Only stock pickers, it was thought, would be able to outperform. Not so much the data finds.

“All active management is doing is trying to get people on the right side of the distribution where more people win than lose,” De Goey says. “There are two things that happen. Number one, for every person that wins there’s another person that loses an equal amount so they’re not adding value in an absolute sense, they’re redistributing the value that exists already; secondly, they’re charging about 1% more so the net effect [the sum of all active managers and passive managers is the same return] because active managers charge about 1% more is that they return about 1% less. This has always been the case.”

Is it time for advisors to rethink active management? The data says yes.

Eugene Fama and Ken French Nobel Laureates have been saying this for 50 years but it doesn't sell own brand high fee product so gets ignored. Luckily for banks and big insurance companies 99% of the population is so apathetic they get away with it